Regulators invoke spurious cost-benefit analyses

Shortly after his inauguration in 1993, President Bill Clinton was greeted with a full-page open-letter advertisement in the New York Times from David Brower, the renowned “arch-druid” of the environmental movement, that bore the striking headline “Economics Is a Form of Brain Damage.” (Remember that slogan, popular with the environmental Left, the next time someone says it’s conservatives who reject science.)

The essence of Brower’s letter was to urge Clinton, following twelve years of Republican rule, to please not listen to the cost-benefit analyses of economists, especially with regard to environmental regulations. The Reagan and Bush administrations had systematically, though imperfectly, elevated cost-benefit analysis in the regulatory process, successfully blocking or altering many proposed regulations in the 1980s and early 1990s. Brower and many environmentalists hoped Clinton would rescind Reagan’s executive orders requiring cost-benefit analysis and disband the Office of Independent Regulatory Analysis (OIRA) in the Office of Management and Budget, which was proving to be a stumbling block to heedless regulators.

But Clinton didn’t, and neither has President Obama. In fact, adverse cost-benefit analyses were a factor in Clinton’s decision not to submit the Kyoto Protocol to the Senate for ratification in the late 1990s, and in Obama’s decision in 2011 to reject the Environmental Protection Agency’s new proposed ozone standard and onerous rules on steam boilers. But the main reason Clinton and Obama did not rescind Reagan-era dictates to use cost-benefit analysis in regulatory rule-making is that the federal bureaucracy has become very skilled at creative accounting. Most cost-benefit assessments issuing from regulatory agencies now find that even the costliest regulations have net economic benefits. The EPA has actually estimated the overall benefits of the Clean Air Act to be larger than the entire annual GDP of the country. Savvy liberals, such as Richard Revesz of New York University School of Law and Michael Livermore of University of Virginia School of Law, now embrace cost-benefit analysis as a method of helping to increase regulation.

The most egregious abuse of cost-benefit analysis to date is quietly unfolding in the usual Washington back rooms right now over the EPA’s drive to impose a new “carbon-pollution standard” whose intent is to kill coal-fired electricity, or at least make it so costly that utilities will switch to other forms of electricity generation. The costs of these regulations — merely the first of many targeted at greenhouse gases — promise to be very high, making any honest cost-benefit analysis extremely adverse to the EPA’s proposed rules. The basic problem is simple: Even if you accept the catastrophic scenario for future global warming from human greenhouse-gas emissions, the net benefits of reducing American emissions are zero, since the United States is powerless to affect global warming by itself.

This would be true even if the United States acted in concert with European nations to reduce emissions. The International Energy Agency in Paris raised the hackles of many in the climate campaign a few years ago when it found that, if the United States and other advanced industrial nations simply ceased to exist, growing emissions from the developing world would overtake their output of greenhouse gases and continue to cook the globe. (The IEA subsequently issued a groveling course correction on this point so as to conform to the dictates of angry politicians.)

So how does a would-be coal-killer cook the books? By coming up with a very large number for the “social cost of carbon.” The methodology for this exercise is complex, but its key point involves assigning a discount rate for future climate damages to the economy. Although discounting — based on the idea that a dollar today is worth a lot more than a dollar ten years from now — is a conventional practice in economic calculation, it has never worked out very well for the climateers because of the long time horizons of climate catastrophe. If you use standard discount rates for a forecast (the government typically uses a range from 3 to 7 percent), even catastrophic climate damages 50 or 100 years from now have a negligible present value. Many economists who accept the catastrophic scenario conclude we shouldn’t spend very much money on emissions reduction right now. For many years, this has been one of the most inconvenient truths for the climateers, and it reinforces their dislike of economics.

The EPA’s first attempt, in 2010, to estimate the present value of the social cost of carbon reported a range from $15.70 to $65 a ton by the year 2050. The EPA arrived at these figures by employing unusually low discount rates and — in violation of OMB guidelines — didn’t include the typical 7 percent discount-rate projection. Using standard discount rates would have generated an extremely low social-cost estimate, showing the cost of most carbon regulation to be prohibitively expensive. The EPA’s estimate attracted criticism from within the agency itself for the flawed methodology, but even the inflated numbers didn’t justify the proposed regulation, since the current costs of carbon abatement are much higher. In May of last year, the EPA released a revised estimate of the social cost of carbon that increased the estimate to a range of $27 to $98 a ton by 2050, chiefly by weighting the model toward the more extreme climate-catastrophe scenarios, which look less and less plausible by the day. It was the only way the EPA could ensure that the benefits of proposed regulations would outweigh the costs.

Beyond the narrow question of discount rates, the EPA analysis is vulnerable to a wide range of criticisms. For one thing, the EPA completely omits any estimate of the benefits of higher levels of carbon dioxide, such as increased plant fertilization. (The best critique of the whole analysis is from Pat Michaels and Chip Knappenberger of the Cato Institute, filed as a formal comment with OMB in January. Michaels and Knappenberger hit the EPA for its self-serving methodology and argue that the OMB should reject the EPA’s analysis outright.)

OIRA has been reviewing the new EPA analysis for almost four months, which is uncommonly long. It is possible that even Obama’s OMB reviewers are having a hard time swallowing the EPA’s ideologically motivated analysis. William Yeatman of the Competitive Enterprise Institute observes that “the unusual delay suggests that EPA’s signature climate policy is enduring the bureaucratic equivalent of a spanking. And if OIRA indeed is taking EPA to the woodshed over the agency’s flawed Carbon Pollution Standard, there’s a distinct possibility that the rule might change significantly when it is (finally) published in the Federal Register.”

The regulators usually can get away with their creative accounting because OMB reviews are internal or advisory executive-branch exercises; they are not transparent to the public or subject to judicial review. The Republican Congresses of the late 1990s tried to pass legislation requiring more transparency and more consistent methodology in the cost-benefit review process but were blocked by a Democratic filibuster in the Senate. Regulatory-reform efforts have moved on to ideas such as the REINS Act, which would require a congressional vote for all regulations costing more than $100 million. It’s a worthy reform, but perhaps Republicans should revisit the idea of amending the Administrative Procedure Act to make regulatory cost-benefit assessments judicially reviewable. If regulators knew that they might have to justify their analysis openly before an independent branch of the government, they might be more restrained in their flights of fancy.

– Mr. Hayward is the visiting scholar in conservative thought and policy at the University of Colorado Boulder, and the author of the Almanac of Environmental Trends.